Wednesday, August 6, 2008

Where Oh Where has my Equity Gone?

We often associate equity with wealth, as it should be. But something went askew during the Great Housing Bubble. Equity was so easily cashed and spent. Here is a snippet of an Alan Greenspan and James Kennedy report (.pdf) on equity -

[W]e present the disposition of the free cash generated by home equity extraction to finance consumer spending, outlays for home improvement, debt repayment, acquisition of assets, and other uses.
Is that an interesting description of equity - "free cash." Many people felt that there were better ways to use your money rather than pay off your equity. It was part of the bubble mentality. Which brought us to where we are today with this article from Forbes titled U.S. Households Losing Home Equity Fastest. Let's take a look -

Most Americans' net worths are tied up in their home equities, which typically increase as mortgage payments are made and property values rise.

That might be news to folks who call Lansing and East Lansing, Mich., home. There, homeowners average a minuscule $16,810 in home equity, the lowest amount in the country. Prices aren't high (the average home went for $73,000 in the second quarter of 2008, according to Moody's, but the average homeowner has lost 61% of his home equity from just a year ago.

In the last several years, many borrowers, especially in Central and Southern California, but also in places like Phoenix, Ariz., and Reno, Nev., took out second mortgages known as piggyback loans, which allowed a new homeowner to put zero dollars down when purchasing a house. If the price of the home went up, the owner technically had positive equity because the value had increased beyond what was owed. However, those gains were unrealized, and once prices headed in the opposite direction what was positive quickly became negative.

"The two years from the second quarter of 2006 to the second quarter of 2008 reflect the peak effect," says Anthony Sanders, a finance professor at Arizona State University. He points out that equity in Modesto has dropped by 78% over that time, and those areas which have lost 50% or more in equity were places where no-documentation lending and sloppy underwriting went virtually unchecked.

According to the Census Bureau, 12.6% of Modesto homeowners during that period had a second mortgage or a second mortgage and a home equity loan. Compare that with a city like Buffalo, where home equity has improved over the last two years. In Buffalo, only 4.2% of homeowners have second mortgages or second mortgages and home equity loans.

There were aspects to the bubble that really did make equity equivalent to "free cash." No money down with skyrocketing prices and people could jump in and out of home ownership and make some real money. But as the saying goes - "easy come, easy go." The free cash that was so easy to get and so accessible is no longer there. Much of it disappeared faster than it came.

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